Dodd-Frank: Why the holdup?

When Senator Carter Glass and Congressman Henry Steagall pushed through the Glass-Steagall Act in 1933, they experienced little in the way of pushback from the financial sector — largely because everyone got something they wanted: Investment banks loved the elimination of competition from commercial banks; commercial banks loved the ban on interest-paying demand accounts and over-the-counter derivatives hadn’t been invented yet.

The same can’t be said for the 2300-page legislation that Senator Chris Dodd and Congressman Barney Frank pushed through last July. The Dodd–Frank Wall Street Reform and Consumer Protection Act is designed to both reinstate some of the provisions of Glass-Steagall and to add new provisions designed to protect us from systemic risk, fraud and predatory lending. Chief among the provisions aimed at systemic risk are the migration of over-the-counter (OTC) derivatives transactions to exchanges and swap execution facilities (SEFs), the imposition of position limits on any derivatives positions that aren’t bona fide hedging and mandatory clearing for standardized products.

The law also requires that hedge funds with more than $100 million under management register with the Securities and Exchange Commission (SEC) as financial advisors, and those with more than $150 million report certain information — such as their positions, gearing and counterparty risk — to the Financial Stability Oversight Council (FSOC) on a regular basis. That law covers less than 20% of all hedge funds, according to Lipper TASS, but it should capture those large enough to do damage if they go belly-up.

Beyond that, it gets a bit fuzzy. Both the CFTC and SEC have delayed by as much as six months the July 16 deadline for coming up with rules on OTC derivatives, and no one can really agree on what an SEF is or how transparent it has to be.

As July approached, even early champions of the Act said things were moving too fast. In April, the Commodity Futures Trading Commission’s (CFTC) own inspector general issued a report criticizing the CFTC for relying too much on its legal team and not enough on its economic team when conducting a cost-benefit analysis of new rules.

"While we offer no opinion on the cost-benefit analyses for the four rules, we note that similar economic analyses in the context of federal rulemaking have proved perilous for financial market regulators," the report says. "At this stage in the process, staff indicated the overriding concern was meeting the rule-making deadline under Dodd-Frank."

Most participants greeted the six-month extension with relief — although many fear that the break will be used to roll back the reforms rather than to get them right.

However, not everyone is in a holding pattern; Fannie Mae and Freddie Mac already have begun clearing some of their OTC interest rate swaps. The two government-sponsored enterprises (GSEs) roughly hold a combined $1.3 trillion in plain vanilla interest rate swaps. Marti Tirinnanzi, chairman of the clearinghouse working group of the Federal Housing Finance Agency (FHFA), says that in October 2010 Fannie and Freddie began clearing a small portion of their interest rate swaps at CME Group. FHFA is the regulator and conservator for Fannie and Freddie.

While it is only a first step and Tirinnanzi says most trades still are executed the old OTC way, it can and is being done.